Understanding Alternative Finance - Nesta

UNDERSTANDING ALTERNATIVE FINANCE The UK Alternative Finance Industry Report 2014

Peter Baeck, Liam Collins and Bryan Zhang November 2014

Supported by

Nesta is a registered charity in England and Wales with company number 7706036 and charity number 1144091. Registered as a charity in Scotland number SCO42833. Registered office: 1 Plough Place, London, EC4A 1DE.

www.nesta.org.uk

©Nesta 2014

UNDERSTANDING ALTERNATIVE FINANCE The UK Alternative Finance industry Report 2014

CONTENTS Forewords

4

Introduction

6

Infographic – 44 facts about alternative finance in the UK

1. Market Overview – the alternative finance market continues to grow rapidly

10 12

The state of the alternative finance market

12

Market likely to continue its growth in 2015

13

Differences in size and usage of alternative finance models

14

The socio–economic impact of alternative finance

21

2. Awareness and Perceptions of Alternative Finance

22

Consumer awareness of alternative finance

22

SME awareness of alternative finance

24

3. Size, growth and trends of different alternative finance models

28

P2P BUSINESS LENDING

28

P2P CONSUMER LENDING

40

INVOICE TRADING

47

EQUITY–BASED CROWDFUNDING

52

COMMUNITY SHARES

62

PENSION–LED FUNDING

66

REWARD–BASED CROWDFUNDING

71

DEBT–BASED SECURITIES

80

DONATION–BASED CROWDFUNDING

85

Conclusion

92

Acknowledgements

94

Endnotes

95

4


Foreword This project was jointly designed, delivered and authored by the University of Cambridge and Nesta

There is a growing movement afoot to revolutionise banking, investing and giving by using technology to simplify the links between those who want to invest money and those who need it. Crowdfunding and peer-to-peer finance are at the vanguard of this movement. Nesta has been an active supporter of a range of crowdfunding platforms and an advocate for and expert on the development of the alternative finance market. We are especially proud to be publishing this research, which constitutes the most detailed and extensive survey of the alternative finance sector yet undertaken anywhere in the world. We believe the results will make essential reading for anyone interested in the future of finance, both in the UK and in the wider world. Stian Westlake, Executive Director of Policy and Research, Nesta

The UK alternative finance market is burgeoning and we need to develop a more nuanced understanding of its structural drivers, intrinsic characteristics, dynamics and diversity, challenges and opportunities. This report is an important first step to promote empirical research in this increasingly significant area of our economy. Dr Mia Gray, Senior University Lecturer, University of Cambridge


This report has received valuable support from the Association of Chartered Certified Accountants (ACCA) and PricewaterhouseCoopers (PwC). ACCA funded and co–designed the national poll of SME awareness of alternative finance and PwC funded and co–designed the national poll of consumer awareness of alternative finance

The alternative finance industry is quickly becoming an important part of the UK economy. The innovative, technology led approach has improved access to finance for SMEs and seems to be having a positive impact on social and charitable enterprises. We are therefore delighted to be supporting what in our view is the most comprehensive research on the industry to date. Mark James and Fergus Lemon, PwC

This report marks an important milestone in the lifecycle of the fintech industry. Alternative finance in the UK has finally come of age in 2014 – as a properly regulated market and a set of well-defined asset classes, drawing on the unique advantages of the UK as a global financial centre. But alternative finance is still set for substantial disruption, out of which a more concentrated, more networked and more mainstream industry will emerge. This study helps us understand that future a little better. Manos Schizas, Senior Economic Analyst and Acting Head of SME Policy, ACCA

About the authors1 Peter Baeck is a researcher at Nesta, where he focuses on the role of digital technologies in public and social innovation. Liam Collins is a researcher at Nesta where he focuses on innovation and economic growth. Liam is co–author of four Nesta reports on both P2P Lending and Crowdfunding. Bryan Zhang is a PhD Researcher in Alternative Finance at the University of Cambridge. He is a co–author of three industry reports on crowdfunding and alternative finance.

1. For general purpose, please quote this report as (Nesta, 2014). For academic reference, please quote this report as (Zhang, Z., Collins, L., Baeck, P. 2014). Analyses contained in this report are partly based on ongoing academic research collaborations between Bryan Zhang, Mingfeng Lin (University of Arizona) and Mia Gray (Cambridge University).

5

6


We would like to acknowledge the generous support received from the UK Crowdfunding Association and the Peer–to–Peer Finance Association.

We would like thank the following platforms and people for sharing data and distributing surveys.

Building on this we are also thankful for the large number platforms who completed our tracking survey.


Introduction

T

he alternative finance market in the UK is expected to grow to £1.74 billion of funding provided in 2014. Alternative finance covers a variety of new financing models that have emerged outside of the traditional financial system, that connect fundraisers directly with funders often via online platforms or websites.

As highlighted in this report, the UK market is growing rapidly, and has more than doubled2 in size year on year from £267 million in 2012 to £666 million in 2013 to £1.74 billion in 2014. In the process, it has given individuals more control over their money as well as new outlets to invest or donate it. At the same time entrepreneurs, SMEs, charities and community organisations are obtaining much–needed finance, which they in many cases, would not otherwise be able to secure. It is evident from our research that the alternative finance market is contributing to the growth and vitality of the UK economy as well as having a positive social impact on philanthropic giving and volunteering. However, while the market is racing ahead, growing in the number of individuals and ventures funded, the amount of total finance raised, and the number of businesses operating in the alternative finance industry, research has lagged behind. Beyond the size and growth of the market, we actually know very little about alternative finance and the people who are using it to fund or fundraise for projects and ventures. Unanswered questions include: • What type of people and organisations use the different alternative finance models? • Why do people and organisations seeking money turn to alternative finance platforms? • What makes the model attractive to people with money to donate, lend or invest? • What is the socio–economic impact of alternative finance and how do organisations and businesses perform after fundraising on alternative finance platforms? • How do people find out about various alternative finance models and what do they think of them having used them? There exists lots of anecdotal stories from fundraisers and funders of projects and ventures, and some data from platforms that begins answering some of these questions, but none of them look at alternative finance holistically in the UK or try to systematically analyse trends and examine behaviour across multiple alternative financing models. To address this shortcoming, Nesta and the University of Cambridge, supported by ACCA and PWC, have undertaken this extensive research, which is the largest study of the UK alternative finance industry to date. We hope that this unique study will shed light on the thriving alternative finance industry in the UK. Furthermore we hope that by studying one of the most dynamic, innovative and diverse markets of its kind in the world we can provide insights for individuals, businesses, governments and regulators both in and outside of the UK on the mechanisms, processes and impact of the alternative finance market. This study uses extensive transaction data collected from alternative finance platforms as well surveys of their users, and we are very grateful to the UK alternative finance industry for their support. The What we did box explains in more detail how we undertook the study.

7

8


As noted earlier alternative finance is an umbrella term that covers a range of very different models from people lending money to each other or to businesses, to people donating to community projects and businesses trading their invoices. The distinctions between these models are important as they differ enormously in the types of people and organisations that use them, why they use them and the nature, form and amount of financial transactions that take place.

PEER–TO–PEER (P2P) BUSINESS LENDING

DONATION–BASED CROWDFUNDING

Debt–based transactions between individuals and existing businesses which are mostly SMEs with many individual lenders contributing to any one loan.

Individuals donate small amounts to meet the larger funding aim of a specific charitable project while receiving no financial or material return in exchange.

INVOICE TRADING

PEER–TO–PEER (P2P) CONSUMER LENDING

Firms sell their invoices at a discount to a pool of individual or institutional investors in order to receive funds immediately rather than waiting for invoices to be paid.

Individuals using an online platform to borrow from a number of individual lenders each lending a small amount; most are unsecured personal loans.

COMMUNITY SHARES

EQUITY–BASED CROWDFUNDING

The term community shares refers to withdrawable share capital; a form of share capital unique to co-operative and community benefit society legislation. This type of share capital can only be issued by co-operative societies, community benefit societies and charitable community benefit societies.

Sale of a stake in a business to a number of investors in return for investment, predominantly used by early–stage firms.

REWARD–BASED CROWDFUNDING Individuals donate towards a specific project with the expectation of receiving a tangible (but non–financial) reward or product at a later date in exchange for their contribution.

PENSION–LED FUNDING Mainly allows SME owners/directors to use their accumulated pension funds in order to invest in their own businesses. Intellectual properties are often used as collateral.

DEBT–BASED SECURITIES Lenders receive a non–collateralized debt obligation typically paid back over an extended period of time. Similar in structure to purchasing a bond, but with different rights and obligations


44 facts about alternative finance in the UK The information below contains highlights from the 2014 UK Alternative Finance Industry report produced by Nesta and the University of Cambridge. The results are based on analysis of transaction data from alternative finance platforms, surveys of their users and commissioned national surveys of consumers and SMEs in the UK.

Market size Growth

+161%

£666m +150% £267m 2012

2013

£1.74billion

10

2014

People who… Are aware Have of it used it

58%

14%



INVOICE TRADING

£5,471

£56,075

£199,095

33% of borrowers believed they would been unlikely to get funds elsewhere

54% have lent more than £5,000

33% of businesses said it was unlikely that they would have received finance could they not have turned to an invoice trading provider

Two-thirds of investors have invested more than £1,000

The average invoice finance auction only takes 8 hours

Since securing funding 70% of businesses have increased turnover, 60% have increased employment

Average amount borrowed

On average it takes 796 microtransactions from individual lenders to fund one loan 63% of business saw a growth in profit with 53% seeing an increase in employment since securing funding

Average amount borrowed

Lenders primarily motivated by interest rate available More than half of borrowers had been offered a loan from the bank but went with P2P Lending 46% used loan to purchase a vehicle

83% of lenders were men

P2P business lending

£547m

Invoice trading

Average amount raised

Three in four users would use invoice trading in the future even if banks were to offer similar terms

£270m £84m

250% P2P business lending 108% P2P consumer lending

£174,286


38% of investors in community shares attended local shareholder meetings

£26m

206% Rewards crowdfunding

Pension-led funding

£25m

5% Pension-led funding

Debt-based securities

£4.4m

117% Debt-based securities

Donation crowdfunding

£2.0m

77% Donation crowdfunding

9%

COMMUNITY SHARES

410% Equity crowdfunding

Rewards crowdfunding

44%

54% of businesses sought expansion capital, 46% sought seed or start-up capital

The average investment in community shares is £368

34m

Have used or tried to use it

38% of investors were professional investors or high net-worth individuals

174% Invoice trading

Community shares

SMEs who… Are familiar with it


Average growth rate 2012–2014 £749m

P2P consumer lending

AWARENESS OF ALTERNATIVE FINANCE

EQUITY CROWDFUNDING

£73,222

Breakdown of 2014 market by platform

Equity crowdfunding

P2P CONSUMER LENDING

11

95% Community shares

PENSION-LED FUNDING

32% of investors have offered to volunteer directly with the project they supported The prospect of a finance return was only important or very important to 24% of investors

DONATION CROWDFUNDING

DEBT-BASED SECURITIES

£6,102

£730,000

£70,257

£3,766

34% of fundraisers have seen an increase in volunteering after their campaign

Average investment in debtbased securities is £1,243

Pension-led funding (PLF) users are mostly small businesses, 7% were sole traders while 60% had 5 or fewer employees

The majority of funders had spent less than £50 on supporting projects and mostly backed only a single project

51% of PLF fundraisers thought that they would have been unlikely or very unlikely to secure funding elsewhere

53% said they would have been unlikely to get funded were it not for crowdfunding


27% of donors had offered to help or volunteer with the project they backed 46% of donors have funded projects that others in or outside their local area could use


On average it takes 587 funders to fund a renewable energy project through debt-based securities The opportunity to make a positive social impact was an important factor in deciding to invest for 86% of investors


43% have increased their employment after raising finance via PLF

REWARDS CROWDFUNDING


72% of funders knew the person running the campaign they backed either personally or by reputation


This report is split into four main parts. In part one we look at findings from across the alternative finance industry, including the total size and growth of the market, as well as the significant differences between various alternative finance models. In part two we look at the general awareness of alternative finance in the UK amongst consumers and small and medium sized enterprises (SMEs). Part three looks in more detail at each alternative finance model from both funder and fundraiser perspectives. Finally, part four concludes the research and discusses the current as well as future development of alternative finance in the UK.

What we did – data sources and research methodology To meet the multifaceted research objectives and ensure the consistency, rigour and validity of this comprehensive study, four stages of research activity were designed and carried out by researchers from March to September 2014. Stage one involved collecting and analysing granular–level relational and transactional data directly from alternative finance platforms. Primary data totalling £1 billion in financing volume and one million in micro–transactions (e.g. from one lender to one borrower or from one donor to one project) were collected and then subsequently cleaned, anonymised, aggregated and analysed. Stage two of the study consisted of designing and distributing model–specific questionnaires in order to survey both funders and fundraisers (i.e. users) of alternative finance in the UK. Surveys were distributed via 25 leading alternative financing platforms/providers as well as through public channels and social media. In total 15,658 users were surveyed. Stage three, which was conducted in association with the ACCA and PwC, included commissioning two external national surveys to understand the level of awareness as well as the nuances of perception about alternative finance among 2,007 consumers and 506 SMEs in the UK. Finally, in stage four, an industry–wide tracking survey was designed and distributed mainly through the UK crowdfunding association (UKCFA) and P2P Finance Association (P2PFA) to gather latest industrial figures for the year 2014. Actual transactional figures were collected for Q1–Q3 and projected figures were estimated and compiled by alternative finance platforms for the 4th Quarter. These projections were primarily provided by the platforms, but in a minority of cases were calculated by the research team based on the platform’s previous growth rate.

9


1. Market Overview – the alternative finance market continues to grow rapidly The state of the alternative finance market In 2014, the total amount raised through various alternative finance models is on track to more than double compared to 2013. In the first three quarters of 2014, alternative finance platforms facilitated loans, investments and donations worth £1.2 billion, with platforms predicting3 the amount to reach £1.74 billion by the end of the year.

Market size Growth

+161%

£666m +150% £267m 2012

2013

£1.74billion

12

Q4 £553m Predicted

Q3 £468m

Q2 £409m

Q1 £312m

2014

As described earlier, alternative finance is an umbrella term covering a very diverse market containing different models. Looking across the different models of alternative finance, most grew substantially in 2014. On volume of funding facilitated, peer–to–peer (P2P) business lending and P2P consumer lending continue to dominate the market with £749 million and £547 million lent through those models respectively in 2014. Invoice trading, is expected to grow to a £270 million sector by the end of the year, up by 179 per cent from 2013. Equity–based crowdfunding is on track to grow to £84 million – a 201 per cent increase from 2013, whilst reward and donation–based crowdfunding are expected to reach £24 million and £2 million in the same period. Finally, debt–based securities, pension–led funding and community shares are expected to register £4.4 million, £25 million and £34 million respectively by the end of 2014.


The crowdfunding market by platform 2014

Average growth rate 2012–2014


£749m


£547m

Invoice trading Equity crowdfunding

13

£270m £84m

250% 108% 174% 410%

Community shares

34m

Rewards crowdfunding

£26m

206%

Pension-led funding

£25m

5%

Debt-based securities

£4.4m

117%

Donation crowdfunding

£2.0m

77%

95%

To put industry figures into context, in the first three quarters of 2014, the UK P2P consumer lending platforms had provided consumer credit to more than 62,000 individual borrowers in the UK. By the end of the year, it is expected that the UK alternative finance market will also provide over £1 billion worth of business finance to over 7,000 SMEs,4 equivalent to 2.4 per cent of cross national bank lending to SMEs based on Bank of England’s 2013 baseline figures (Trends in Lending, October 2014).

Market likely to continue its growth in 2015 Looking at growth figures from the past three years, we project that the UK alternative finance market will grow to around £4.4 billion in 20155 if current growth remain buoyant. There are a number of factors that suggest growth will continue apace. Firstly, when asked, current users of UK alternative platforms indicate that they are very likely to use alternative finance models more in the future. More than half of P2P business lenders for example, plan to lend more in the coming year than last year. On the borrower side, 86 per cent say they would be ‘likely’ or ‘very likely’ to approach alternative finance platforms first in the future even if a bank were to offer funding on similar terms. The second factor that indicates significant potential for future growth, is that awareness and usage of alternative finance in the UK is quite low. Forty–two per cent of individuals participating in a national survey were completely unaware of any type of alternative financing activities or platforms. Even more promising for the growth potential of the market is that just 14 per cent of the respondents in the same survey had used an alternative finance platform, leaving significant scope for expansion. Looking at potential fundraisers, there are also indications of the potential for future growth. While 44 per cent of SME’s surveyed were familiar with some form of alternative finance, less than 10 per cent had approached an alternative platform to seek finance.

14


However, alternative finance platforms also have significant challenges ahead, as, despite the positive perceptions their users have of the industry, those who have not used it remain sceptical. Sixty per cent of surveyed consumers said they are ‘unlikely’ or ‘very unlikely’ to begin/ continue using alternative finance platforms, citing concerns about perceived risks and a lack of information about those individuals and businesses that they would be funding. There was also a perception that their money would be safer with traditional financial institutions rather than with alternative finance providers.

Differences in size and usage of alternative finance models The amounts raised and contributed by users differs significantly across models The diverse nature of the alternative finance industry means that projects and businesses from a wide range of sectors are able to source funding for various purposes. Consequently, there are also significant variations in the usage and amounts raised by people and organisations through the different alternative finance models. Those raising funds through reward–based crowdfunding are predominantly from the creative and social sectors and raise an average of £3,766 from 77 backers. Equity–based crowdfunding fundraisers come from a diverse range of sectors, from high–tech and healthcare to consumer products, and raise a much larger average amount of £199,095 from 125 investors. In invoice trading, the average invoice value is £56,075 and funded mostly by institutional investors and high net–worth individuals. P2P business borrowers tended to be from the manufacturing, professional business services, construction or retail sectors and on average borrowed £73,222 from 796 lenders. The average amount of funding secured by those using pension–led finance was £70,257.

P2P Consumer Lending


Average number of funders

£5,471 201

P2P Business Lending

£73,222 796

Equity Crowdfunding

£199,095 125

Rewards Crowdfunding

£3,766 77

Donation Crowdfunding

£6,102 55

Invoice Trading

£56,075 7

Pension–led Funding

£70,257 N/A

Debt–based Securities

£730,000 587

Community Shares

£174,286 474

The amounts of money being lent or donated by individual funders through the different alternative finance models varied considerably too. Our findings show that 66 per cent of equity– crowdfunding funders, 72 per cent of P2P consumer lenders and 84 per cent of P2P business lenders respectively had put more than £1,000 through the platforms that they used. In contrast, just 3 per cent of funders on donation or reward–based crowdfunding platforms had pledged the same amount or more. In a similar vein, when asked about what the money they used to fund would have been used for otherwise, P2P lenders and equity investors had pretty even splits between savings and investment. In contrast, the majority of reward and donation–based crowdfunding backers stated the money would have been used for day–to–day spending or charitable giving.


15

Users of alternative finance are predominantly men, but women are the majority for reward and donation–based crowdfunding It is evident that alternative finance is primarily utilised by men. Looking at those securing funds through P2P business lending and equity–based crowdfunding, around three–quarters of those who successfully raised finance were men.6 This suggests alternative finance may facilitate the same gendered patterns of funding as seen in traditional finance models.7 However, this is not the case for all types of alternative finance. Female fundraisers made up 51 per cent and 64 per cent of the survey respondents for reward and donation–based crowdfunding respectively. Again, these findings are in line to those found in elsewhere, that women are better represented in social enterprises than in mainstream businesses.8 The gender trends for funders follow a similar pattern. Just 14 per cent of equity crowdfunding investors and 17 per cent of P2P business lenders surveyed were women. While these figures are low, they compare favourably to other areas such as the male–dominated business angel population9 or financial asset ownership by gender.10 Figure 1: Percentage of alternative finance fundraisers that were women by model 70%

64%

60%

50%

51%

40%

34%

30%

24%

20%

22% 18%

17 %

10%

P P2

I Tr nvo ad ic in e g

F PL

F C ty ui Eq

B Le usin nd e in ss g

P P2

C on Le su nd me in r g

F C R ew ar ds

D on

at io

n

C

F

0%


Users of alternative finance are well represented in all age groups Users of alternative finance tend to be in the older age brackets. Almost three-quarters of all users surveyed were 45 or older, with almost a quarter over 65 years old. Conversely, funders of reward, donation and in particular equity-based crowdfunding tend to be younger than those using other models. For most models funders tended to be older than fundraisers. Figure 2: Age of funders across the different alternative finance models 70%

60% 57%

56%

55% 50%

43%

40% 38%

40% 40%

40% 37%

36%

39%

35% 33%

30%

31%

25% 23%

20%

22% 20%

12%

10%

12% 5%

Under 35

35-54

55+

m sh un ar ity es

C om

D eb Se t-B cu a rit sed ie s


P2 P

C on Le su nd me in r g P2 P

F C R ew ar ds

D

on

ui

at io

n

ty

C

C

F

F

0%

Eq

16


17

Figure 3: Fundraiser age across the different alternative finance models

80%

70%

72% 64%

60%

62%

61%

50% 50%

48%

Percentage of 40% respondents

49%

41% 41%

30%

32% 29% 26%

26%

20% 19%

20%

19% 17%

10%

11% 7%

6%

1%

Under 35

P P2

35-54

I Tr nvo ad ic in e g

F PL


P P2

C on Le su nd me in r g

F C R ew ar ds

at on D

Eq

ui

io

ty

n

C

C

F

F

0%

55+

The geography of alternative finance – London and the South East the most active regions The funder and fundraisers of alternative finance came from all corners of the UK. Relative to population size we see that usage of alternative finance closely follows the population distribution.11 Variations from this, are that slightly more individuals and businesses in the South East and South West use alternative finance platforms and slightly fewer in the East of England. Looking at specific models and comparing the distribution of funders and fundraisers, we see that with some exceptions, the geographical distribution of funders closely mirrors the distribution of fundraisers. A notable exception was P2P consumer lending, where London and the South East had more lenders than borrowers, suggesting an outflow of money from these regions. The distribution of equity–based crowdfunding users illustrated that the South East had more investors than fundrasiers while the opposite is true for London. When it comes to reward– based crowdfunding, London also had more fundraisers than funders.

18


Figure 4: Funder and fundraiser location by region – P2P Consumer Lending 1%

Northen Ireland

3% 4% 4%

Wales

6%

Scotland

11%

South West

10%

12%

South East

22%

17%

London

15%

8%

East of England

5%

7% 7%

West Midlands

8%

7% 7%

East Midlands

7% 8%

Yorkshire and The Humber

10%

North West

3%

North East

14%

5%

0%

5%

10%

Funder

Fundraiser

15%

20%

25%

Figure 5: Funder and fundraiser location by region – Equity–based Crowdfunding 8% 7%

Europe(non-UK)

1%

Northen Ireland Wales

4% 4%

0% 4% 4%

Scotland

12%

UK-South West UK-South East

15% 19%

11%

31%

London

4% 4% 3% 4% 3%

UK-West Midlands UK-East Midlands UK-Yorkshire and The Humber

0% 2%

UK-North West UK-North East

41%

8% 7%

UK- East of England

4%

1% 0% 0% Funder

5%

10%

15%

Fundraiser

20%

25%

30%

35%

40%

45%


19

Figure 6: Funder and Fundraiser Location by Region – Reward–based Crowdfunding Outside UK Northen Ireland

9%

6% 1% 1%

Wales

2%

4% 5%

Scotland

7%

South West

16% 11%

South East

19%

14% 19%

London

26%

5% 4% 6% 4% 4% 4% 5% 5%

East of England West Midlands East Midlands Yorkshire and The Humber

9% 9%

North West

2% 1%

North East

0% Funder

5%

10%

15%

20%

25%

30%

Fundraiser

Significant differences in users’ income levels across different alternative finance models Looking across the different alternative finance models, we see that the income levels of users differ quite noticeably. Those funding through debt–based securities, P2P business lending and in particular equity–based crowdfunding have the highest incomes. Fifty–two per cent of those investing through equity–based crowdfunding have an annual income of more than £50,000 with 21 per cent earning over £100,000. At the other end of the spectrum, those backing projects through reward and donation–based crowdfunding had the lowest incomes. In both models, 47 per cent of funders earned less than £25,000 per annum.

20


Figure 7: Annual income of funders 24%

Rewards CF

23%

19%

18%

12%

2% 2%

18%

Donation CF

29%

16%

18%

18%

2% 0%

P2P Consumer

17%

20%

Community Shares

16%

22%

20%

19%

26%

17%

19%

4%

14%

3%

1% 2%

P2P Business

13%

Debt-based securiles

12%

Equity CF

7%

16%

15%

10%

0%

Different motivations driving usage of alternative finance The motives behind fundraisers turning to alternative sources of finance also vary depending on the model. Those who fundraised through donation and reward–based crowdfunding valued most having more control over their projects. In contrast, P2P business lending borrowers and entrepreneurs that had fundraised via equity–based crowdfunding valued the speed at which they could access funding and how easy the platform was to use. For P2P consumer borrowers the primary motive was securing a more favourable interest rate as well as a higher quality of customer service. Those trading invoices through alternative finance platforms did so largely to source working capital; whilst those utilising pension–led finance valued the ability to invest their own pension into their businesses. In a similar vein, the motivations for funding also differed significantly across the industry. Those in P2P lending and equity–based crowdfunding were primarily driven by the prospect of financial returns with less concern for backing local businesses or supporting social causes. In contrast those in reward and donation–based crowdfunding were highly motivated by fundraisers’ ideas


and the potential to make a positive difference with their money. For instance, the prospect of obtaining financial return was ‘important’ or ‘very important’ to 82 per cent of P2P business lenders and to 96 per cent of investors in equity–based crowdfunding, whereas this was only ‘important’ or ‘very important’ to 24 per cent of people who bought community shares. Survey responses from users of donation–based crowdfunding highlight how only 22 per cent of people have funded one or more projects that they would benefit from themselves, whereas 46 per cent have funded projects that others in or outside their local area could use.

The socio–economic impact of alternative finance By the end of 2014, it is expected that the UK alternative finance market will have provided working, growth and expansion capital to an estimated 7,180 SMEs as well as crucial funding for hundreds of community and voluntary organisations across the country. By the end of the year, over 80,000 people will have acquired personal loans from P2P consumer lending platforms, of which many are sole–traders borrowing money for business purposes.12 The importance of the alternative finance market was also highlighted in the surveys of users of alternative finance platforms, where many fundraisers stated that they would have struggled to source funds otherwise. This is particularly true in donation–based crowdfunding where 64 per cent of those who raised money say it is ‘unlikely’ or ‘very unlikely’ they would have been able to access the funds they need if they could not have turned to alternative finance. Fifty–three per cent of those using reward–based crowdfunding thought it was ‘unlikely’ or ‘very unlikely’ that they would have been able to get funding elsewhere. Impact on business growth Since successfully raising finance, individuals and businesses have seen a variety of positive impacts. Three–quarters of those that received funding through reward or equity–based crowdfunding launched a new product or service after funding rounds. Seventy per cent of SME borrowers of P2P business lending have seen their turnover grow since secured funding with 63 per cent of them recording a growth in profit. A third of those who raised funds via P2P business lending or invoice trading, reported that they would have been ‘unlikely’ or ‘very unlikely’ to get funding elsewhere. Seventy–nine per cent of businesses had attempted to get a bank loan before turning to P2P business lending, with only 22 per cent being offered finance. Increasing philanthropic giving and volunteering Alternative finance models also facilitate significant giving to good causes predominantly through the reward, community shares and donation–based models as well as to renewable energy ventures through debt–based securities. For donations and reward–based crowdfunding just 23 per cent and 21 per cent stated the money they donated or pledged would otherwise be used for charitable giving, indicating that alternative finance is providing significant additional giving to social good projects. As well as the funds provided, crowdfunding is helping increase volunteering and social action. Our results show that 29 per cent of backers on donation–based crowdfunding platforms had also given advice and feedback to campaigns and 27 per cent had offered to help or volunteer with the project. Correspondingly, 34 per cent of fundraisers have seen an increase in volunteerism after they fundraised through donation–based crowdfunding.

21

22


2. Awareness and Perceptions of Alternative Finance

A

lternative finance is a relatively new phenomenon, with most providers less than a decade old. Yet its rapid growth has meant it is already providing significant amounts of capital to UK individuals and businesses. To examine whether this growth is driven by niche pockets of UK society, or if it is beginning to gain prominence more widely, we commissioned two national surveys to gauge awareness and usage amongst the consumer and business populations. Consumer awareness of alternative finance Awareness of some type of alternative finance among the over 2,000 individuals surveyed was relatively high. Fifty–eight per cent of those asked were aware of at least one type of alternative finance presented to them with 42 per cent completely unaware of any type. Yet usage of alternative finance remains quite low. Just 14 per cent of those surveyed (less than a quarter of those aware of alternative finance) had used any type. Figure 8: Awareness of alternative finance 100% 42% 90% 80% 70% 60% 58%

44%

50% 40% 30% 20% 14%

10% 0%

Percentage of respondents


Unaware of any type of alternative finance Are aware of some type of alternative finance Aware of some type but have not used any type of alternative finance Have used some type of alternative finance


23

Looking across the different alternative finance models there is relatively little variation in the levels of awareness, yet it is not necessarily the same people who are aware of all models. Just 16 per cent of the total (or around a quarter of those aware of any model) were aware of all types of alternative finance presented to them. Fewer than 2 per cent had used all 4 types. There was slightly higher usage of donation or reward–based crowdfunding. P2P consumer lending also registered a higher level of awareness and usage. Figure 9: Awareness of different types of alternative finance Investment-based crowdfunding*

5%

33%

62%


5%

34%

61%

Reward-based crowdfunding/ donation-based crowdfunding

8%


7% 0% Used

32%

60%

38% 10%

20%

30%

55% 40%

Aware but not used

50%

60%

70%

80%

90%

100%

Unaware

* Equity–based crowdfunding and debt–based securities

When asked about future plans, 60 per cent of all respondents believed they were ‘unlikely’ or ‘very unlikley’ to begin/continue to using an alternative finance platform in the near future. These results were similar across the different alternative finance models. Of the 1,150+ respondents that were aware of alternative finance, flexibility (53 per cent) and speed (51 per cent) were the two features respondents associated most with alternative finance. However, 56 per cent also thought that alternative finance was risky. Of the 875 respondents who were aware of alternative finance but had not used it, when asked what would make them more likely to invest/save through alternative finance platforms, the three most important factors were: if they could earn better returns (72 per cent), if it could give them a better sense of transparency and understanding of where their money goes (62 per cent) and if they could receive better guidance on how to use the different platforms (62 per cent). For those who were unaware, gaining better returns and having their money covered by a guarantee would encourage them to lend or invest.

24


Thirty–one per cent of all respondents think that alternative finance platforms are more risky than traditional finance providers and 23 per cent consider them to be less secure. However, alternative finance platforms fared much better than traditional finance providers across a number of other characteristics. Twenty–eight per cent of all respondents think that alternative finance platforms are more socially responsible, 25 per cent believe they are more flexible and 21 per cent believe they are easier to use. Whilst the majority of respondents said they would not consider P2P or crowdfunded activities for other services or products, 18 per cent said that they would consider it for exchanging currency, 11 per cent for insurance and 10 per cent for mortgages – highlighting the potential for other P2P and crowdfunded activities.

SME familiarity of alternative finance In addition to individuals, the other significant users of alternative finance platforms are SMEs. Specific alternative finance models such as P2P business lending, invoice trading, equity–based crowdfunding and pension–led funding deal almost exclusively with SMEs. In addition to this, reward–based crowdfunding and community shares are becoming increasingly important sources of funding for start–ups and community interest groups. In order to gauge the level of awareness and usage of alternative finance among the SME community, a national SME alternative finance survey was commissioned. The sample of 506 SMEs were gathered to be representative of the national SME population in terms of geographical spread, industry, size and turnover bands, with the exception of over–sampling businesses that have employees and under– sampled sole traders who would otherwise have dominated the sample. Wherever the sample did not accurately represent the SME population weights were applied in the analysis. Many SMEs are familiar with alternative finance platforms but few have approached them The SMEs surveyed were presented with descriptions of the different forms of alternative finance including the names of some of the most prominent alternative finance platforms in the market. Respondents were then asked about their familiarity with, and usage of, the respective models. Forty–four per cent of those surveyed were familiar with at least one of the forms of alternative finance presented to them with 56 per cent unfamiliar with any. However, few had attempted to raise funds via an alternative finance platform. Just 9 per cent of those surveyed had approached an alternative finance provider. Those who were aware of, but had not used an alternative finance platform cited not needing external finance (77 per cent), not having a problem accessing finance from elsewhere (14 per cent) and not having enough knowledge about alternative finance platforms (9 per cent) as the reasons they had not used them.


Figure 10: SME familiarity with alternative finance 100% 56%

91%

90% 80% 70% 60% 50% 40%

44%

30% 20% 10% 9% 0%



Unfamiliar with any type of alternative finance Familiar with some type of alternative finance Have not tried to use some type of alternative finance Have tried to use some type of alternative finance

Across the different alternative finance models, SMEs were most familiar with P2P lending (almost a quarter for P2P consumer or business lending). While invoice trading also fared well (21 per cent), familiarity with community shares (7 per cent), pension–led funding (9 per cent) and debt–based securities (11 per cent) was noticeably less.

25

26


Figure 11: SME familiarity with different models

Peer-to-peer business or consumer lending

24%

21%

Invoice trading

Investment crowdfunding (equity)

15%

Donation-based crowdfunding

13%

Reward-based crowdfunding

Debt based securities

Pension-led funding

Community shares

76%

79%

85%

87%

12%

88%

11%

89%

9%

91%

7% 0%

93% 20%

40%

60%

80%

100%

Percentage of respondents Familiar with

Unfamiliar with

When asked which forms of alternative finance they would like to learn more about, reward– based crowdfunding was the most popular response with 11 per cent of those aware of the model interested in finding out more about it. To gain a better understanding of the channels through which SMEs are becoming aware of this type of funding, they were asked to identify from where they had received information about alternative finance. The most cited source of information was the media (48 per cent) with colleagues or professional networks (35 per cent) and professional advisors (21 per cent) also ranking highly. When comparing those who are, or plan to use alternative finance, to those not planning to use it, the former disproportionately became aware through channels such as online intermediaries and established finance providers, indicating that these are more effective or trusted channels. Cost of finance and regulation are important factors for SMEs considering alternative finance SMEs that were aware of alternative finance were presented with a number of hypothetical statements on what would make them more or less likely to use alternative finance platforms. The ones that were cited most as factors that would increase the likelihood of them using alternative finance were if they offered cheaper funding (46 per cent), if they were regulated (46 per cent) and if they were faster and less complex than traditional funders (40 per cent). The factors that would make them less likely were if they believed most platforms would not be around in 10 years (37 per cent) or if platforms had a reputation of funding applicants regardless of quality (32 per cent).


27

Figure 12: UK alternative finance providers compared to the finance providers your business has worked with so far 29%

Willingness to take risks

29%

26%

Flexibility Speed Accessibility Generating financial returns on their investment

33%

23%

33%

21%

36%

17% 16%

34%

Cost of capital

16%

36%

14%

Moral standards

14%

Keeping your business’ money and information safe Lending/investment standards

10% 10% 7% 10% 11%

37%

17%

32%

8%

12%

38%

7% 0%

9%

41%

Generating social returns on their investment

Knowing how your industry/ businesses like yours work

10%

18%

38% 10%

20%

30%

15% 40%

50%

60%

70%

80%

Percentage of respondents Better

About the same

Worse

SMEs’ perceptions of the UK alternative finance platforms in comparison to that of traditional funders were also explored in the survey. Alternative finance platforms were thought to be better than traditional providers when it came to their willingness to take risks (29 per cent of respondents), flexibility (26 per cent) and speed (23 per cent). They fared worse however when it came to whether they understood an SMEs’ specific industry or business (17 per cent of respondents) and keeping money and information safe (18 per cent of respondents). Of those SMEs planning to raise funds in the coming 12 months (27 per cent), slightly more (14 per cent) indicated that they would approach an alternative finance provider than those who said they would not (13 per cent). SME respondents would also consider using P2P or crowdsourced services for mortgages (13 per cent), insurance policies (12 per cent)or electronic invoicing (10 per cent) but were less willing to use such models for credit ratings (4 per cent) or currency exchange (5 per cent).

28


3. Size, growth and trends of different alternative finance models P2P BUSINESS LENDING


£73,222

£749m

Market size

Average amount borrowed 33% of borrowers believed they would been unlikely to get funds elsewhere

Average growth +250%

Predicted

Q3 £205m

On average it takes 796 microtransactions from individual lenders to fund one loan 63% of business saw a growth in profit with 53% seeing an increase in employment since securing funding

Q4 £250m

£193m £62m

Q1 £112m

83% of lenders were men 2012

Q2 £183m

2013

2014

The market has more than tripled in size since 2013 P2P business lending facilitates secured or non–secured business loans between individual lenders to mostly SMEs. Over the last two years P2P business lending has experienced an impressive growth, with a 288 per cent increase from the £193 million in 2013 to a predicted £749 million in 2014. This growth can be largely attributed to the strong expansion of existing industrial players as well as the recent proliferation of this business model underpinned with the emergence of many new and diverse entrants into the market.

WHAT IS P2P BUSINESS LENDING? Debt–based transactions between individuals and existing businesses – which are mostly SMEs with many individual lenders contributing to any one loan.


29

Lenders are creating large portfolios as lending is split among hundreds of borrowers Analysis of primary transactional data from P2P business lending platforms worth £309 million covering over 3,000 loans and 3.18 million transactions from 2011–2013 illustrates that the average business interest rate paid is around 8.8 per cent. The average P2P business lending loan size is £73,222 and it takes approximately 796 transactions from individual lenders to the business borrower to fund a listed loan, with the average loan being just £91.95. P2P business lenders have, on average, a sizeable lending portfolio of £8,137 spread over a median of 52 business loans. Manufacturing businesses using P2P borrowing most Of 3,112 P2P business loans analysed, the top three most funded industrial sectors are manufacturing, professional and business services and retail. P2P business borrowers by sector Industrial Sectors

Count

% of total P2P business loans

Manufacturing

709 23%

Professional and Business Services

431 14%

Retail

424 14%

Construction

347 11%

Information and Communication

276 9%

Leisure & Hospitality

276 9%

Healthcare

219 7%

Wholesale

203 7%

Finance

124 4%

Transportation

103 3%

P2P lending for real estate finance also emerging One of the fastest–growing markets within the P2P business lending model is secured lending for real estate mortgages and developments. For this particular section of the market, which was analysed separately, we found that the average business loan amount is considerable higher at £662,425 with an average loan term of 10 months.

30


In addition to looking at transactional data from platforms, we also surveyed 1,771 lenders and 323 business borrowers who have used P2P business lending, to attain further insights on their behaviour and views on alternative finance. The survey results mirror the findings from the platform data with 30 per cent having lent between £1,000 and £5,000 and 26 per cent having lent between £5,000 and £20,000. It is however interesting to note that almost 23 per cent have provided loans in the range from £20,000 to £100,000. Also corresponding to the findings from transactional data from platforms, our survey demonstrates that P2P business lenders do actively diversify their lending portfolios. One in four P2P business lenders has lent to more than 100 businesses, and 45 per cent have lent to between 20 and 100 businesses. Lenders tend to be older males using money set aside for savings or investment P2P business lending is primarily used by men who are 55 or older. Eighty–three per cent of surveyed lenders, and 74 per cent of borrowers were men. Fifty–seven per cent of lenders were 55 or older. They were also quite wealthy with a third having an annual income in excess of £50,000. The majority of P2P business lenders learned about this alternative finance model through online advertising (28 per cent) and online intermediaries such as MoneySupermarket (25 per cent). When budgeting for lending through P2P business lending platforms, it is clear that the money primarily comes from lenders’ investment budget (54 per cent) or their savings (45 per cent). Very few people (less than 2 per cent) have lent money they would otherwise use for day–to–day spending. Lenders are primarily motivated by the financial return available The main reason why people use P2P business lending to lend is to make a financial return on investment, with 82 per cent of respondents stating this as very important in their decision. Building on this, many also stated the service that P2P business lending offers, in terms of the ease of lending process (important or very important to 87 per cent), diversifying investment portfolios (important or very important to 88 per cent) and having control over where the lent money is going (important or very important to 81 per cent) were key to their decision to lend. Unlike the donation and reward–based fundraising, the opportunity to use the P2P business lending model to support a specific sector or industry, supporting friends and family or supporting a social cause was of relatively low importance to the majority of lenders. Furthermore, it is interesting to observe that almost none of the P2P business lenders had personal connections to the businesses they lent to, with 97 per cent saying their first loan was to someone they didn’t know. Registered but inactive lenders concerned by business creditworthiness We also asked those lenders who have set up accounts with P2P business lending platforms but have yet to make their first loan (5 per cent of all surveyed lenders) what would make them start lending. The key issue ranked important or very important by these potential lenders was uncertainty about the creditworthiness of business seeking loans (73 per cent of respondents). Uncertainty about how the model worked was not one of the more cited factors with 35 per cent saying this was ‘important’ or ‘very important’. Inactive members highlighted more information about businesses seeking loans (13 per cent), greater tax incentives (31 per cent) and more information about risks associated with lending (11 per cent) as three key factors that would make them begin lending. Finally, 58 per cent of the surveyed inactive lenders indicated that they would start lending within the next 12 months.


Borrower seeking growth or working capital and value speed of service Businesses seeking to borrow via P2P business lending most commonly seek a loan for expansion and/or growth capital (41 per cent) and working capital (34 per cent). SMEs borrowers often choose P2P business lending because the combination of the speed and ease of use of the model, rated important or very important by 94 per cent and 90 per cent of borrowers respectively. 91 per cent of borrowers highlight how they see P2P business lending as an easier way to get funded than traditional channels (e.g. bank) as a key factor in their decision to choose this lending model. P2P business lending is funding many borrowers who would otherwise struggle Responses show that borrowers in many instances have unsuccessfully sought funding from more traditional funders such as banks before attempting to borrow via P2P business lending platforms. 79 per cent of borrowers had attempted to get a bank loan before turning to P2P business Lending, with only 22 per cent of borrowers being offered a bank loan. 33 per cent thought it was unlikely or very unlikely that they would have been able to secure funding elsewhere had they not been successful in getting a loan through the P2P business lending platform, whereas 44 per cent of respondents thought they would have been likely or very likely to secure funding from other sources had they not used P2P business lending. Businesses receiving loans reporting growth in term of job creation and turnover Most business respondents have experienced positive growth since successfully securing a loan. 71 per cent of borrowers reported growth in turnover, 63 per cent experienced growth in profit with 53 per cent having increased their employment. The majority of the remaining respondents reported that their turnover, profit or employment levels had remained largely the same. Less than 5 per cent reported contraction under any metrics. Growth of model likely to continue in 2015 The rapid growth of P2P business lending is illustrated not just by the increasing amount of money lent to businesses via the model in recent years, but also by the number of people and businesses who have only just started to use the platforms to lend and borrow. More than 69 per cent of P2P business lenders surveyed have begun using the model in just the last two years with half of these starting since the beginning of 2014. Similar trends exist on the borrower side with 48 per cent of the businesses responding to the survey having first borrowed in 2014 and 40 per cent in 2013. Looking ahead, the majority of P2P business lenders expect to increase their lending in total and to more businesses, with 53 per cent of them expecting to lend more, and 38 per cent of them expecting to lend about the same. In addition, 65 per cent of lenders expect to lend more should their P2P lending qualify for the Individual Savings Account (ISA) scheme. Ninety–four per cent of borrowers state that they will be likely or very likely to approach a P2P business lending platform first if they need finance in the future, and a significant 86 per cent would be likely or very likely to approach a P2P Lending platform even if a bank could offer similar terms. Ninety–seven per cent would be likely or very likely to recommend P2P business lending to other business that they know are seeking funding. Current lenders’ support for the P2P business lending model is emphasized by the fact that 59 per cent of lenders are very likely to recommend P2P business lending to others with money to lend, and 42 per cent of them are very likely to recommend P2P business lending to business looking to borrow money.

31

32


Newton Farm Foods Newton Farm Foods is a family-run farm shop and café, frequented by locals and visitors to the village of Newton St. Loe in Somerset. Owner Celia uses produce from their award-winning farm to sell and cook in their café. Although the main focus for Celia and her husband is farming, they have grown and developed their business from milking, to selling meats, to opening a small shop and café on their farm. Their business ‘grew beyond belief’, so Celia started looking for funding to extend the space and to include outdoor seating. Having read our peer-to-peer business lender Funding Circle in the Sunday paper she decided in was an option that could work for her. Newton Farm Foods borrowed £60,000 from 915 people through Funding Circle to do this.

Potterspury Equine Centre In March 2014, the Walker family borrowed £152,000 through Assetz Capital, a P2P lending platform that specialises in loans to SMEs and property developers, to purchase and develop a 8.5 acre equestrian centre in Potterspury, near Northampton. The project incorporated stables, paddocks and room for horses to exercise, as well as a small shop. Despite having a waiting list for the stables even before it was launched, Potterspury Equine Centre was unable to secure a traditional bank loan. 271 investors backed the project through an auction process, lending between £20–25,000 with expected returns of 12 per cent p/a gross.

Oyster World Games In May 2014 Oysterworld a computer game development and publishing business based in Treforest, Wales successfully raised £300.000 on the Thincats P2P business lending platform to develop their business. This was a fixed rate auction and filled at 14 per cent by 152 lenders. Oysterworld had originally sought a bank loan but couldn’t get it due to an existing charge over some of the company’s assets even though this charge was due to time expire very shortly, which led the business to turn to P2P business lending.


33

Figure 13: How much in total have you lent via this P2P business lending platform? 5%

£100,000+

9%

£50,000 - £100,000

14%

£20,000 - £50,000

26%

£5,000 - £20,000

£1,000 - £5,000

30%

£500 - £1,000

8%